Crowding Out Econ 333 Fall 2014 Copyright James J. Murphy. Material may not be reproduced or redistributed without permission.

Intrinsic motivation “an activity has a motivation of its own, independent of any reward, called intrinsic motivation” Crowding out: “A reward, different from this intrinsic motivation (in particular, but not only, a monetary reward) may replace the intrinsic motivation. The net effect may be a reduction of the overall motivation, and hence a reduction of the activity itself.” Gneezy Rusticini, QJE 2000, Pay Nothing…

Crowding out Crowding out, if it exists, is one of the most important anomalies in economics. Suggests that raising monetary incentives reduces, rather than increases, supply. Frey & Jegen

Crowding out & crowding in External interventions via monetary incentives or punishments may undermine intrinsic motivation Titmuss (1970) expressed concerns that paying for blood could eliminate voluntary donations Was Titmuss right?? Niza, Tung, Marteau. Health Psychology, 2013 Meta-analysis of 7 studies Quantity & quality of donated blood when (a) offer incentive or (b) no incentive Find no evidence of crowding out

Mellström, Johannesson (2008) Field experiment test of Titmuss hypothesis T1: No compensation T2: Paid SEK 50 (about $7) T3: Choose SEK 50 or have SEK 50 donated to charity Results Men: No effect Women: Significant crowding out effect (T1 vs T2) Significant effect of charity donation, offsets crowding out (T1 vs T3)

Results

Frey Oberholzer-Gee AER 1997 CV survey, not an experiment Asked Swiss residents about willingness permit the construction of a nuclear waste repository for short-lived, low- and midlevel radioactive waste on the grounds of their community 50% yes 45% no 5% didn’t care

Frey Oberholzer-Gee AER 1997 Then asked if they’d accept the nuclear waste site if each individual were compensated. Varied amounts $2175 - $4350 per person Support dropped from 50.8% to 24.6% Lack of support not affected by $$ amounts

Gneezy & Rustischini Theory of Crime (Becker 1964) People will weigh benefits of crime with expected costs (= probability of getting caught ´ fine) Increases in fines should reduce negative behavior Consistent with results in legal studies, psychology Fines as a deterrent

Field experiment Problem: parents were arriving late to pick up children from Israeli day care centers Incomplete contract: consequences of being late never explained to parents Hypothesis: introducing a fine for late pick ups should reduce frequency

Study design 10 private day care centers in Haifa Same general area, no significant differences among them Tuition NIS 1400 (US$380/month) Observed over 20 weeks Weeks 1-4: Observe late arrivals Weeks 5-16: Impose small fine in 6 of 10 centers (no fine in other 4 “control” centers) fine = NIS 10 ($2.72) Weeks 17-20: Fine removed

Results Control: no change over time Fine: increased late arrivals. Remained after fine removed

Comparison of medians and extreme values

Test Control

Key results Fact 1: Introducing fine INCREASED late arrivals Fact 2: Removing fine had no effect on late arrivals (vis-à-vis with fine) Fact 3: No difference between control & test groups No trends in test group

Interpreting results Need to explain two outcomes: Increase as a result of fine Persistence after fine removed Characteristics of the “crime” Minor offense Small fine Perfect monitoring Assume (not prove): Fine changes people’s perception of the social situation

Implicit contract? “We are going to take care of your children after closing time if you come late. We are not going to put a price schedule for this extra service, which will therefore be performed free of charge. Of course, any delay on your part is supposed to be an exceptional case, and you should come late only when strictly necessary. If you come late too often, we might do something about it.’’ In order to avoid this unspecified and uncertain but possibly more serious consequence, parents abstain from “too many” delays ?? Fine removes uncertainty about worst case scenario?

Social norms? Stage 1. Teachers engaged in generous, non-market activity Stage 2. Fine is a price Stage 3. Once a commodity always a commodity Payment changes perception from a service to a market exchange?

Frey & Jegen Motivation Crowding Out External interventions via monetary incentives or punishments may undermine intrinsic motivation Titmuss (1970) expressed concerns that paying for blood could eliminate voluntary donations Neither Solow nor Arrow could explain why this might be the case Cognitive social psychologists Indirect negative consequences

Crowding out effect Important anomaly in economics Violates laws of supply & demand Under some circumstances, using prices/fines may be counter-productive. May need to rely instead on intrinsic motivation

Theory Possible sources of movement along spectrum: Extrinsic motivation Intrinsic motivation Possible sources of movement along spectrum: Change in preferences Change in perceived nature of the task

Some potential implications Labor: performance wages Environmental pricing instruments Social policy: does $ crowd out notion of responsibility for one’s own fate? Subsidies: possible negative effects on entrepreneurship Charitable giving: do government programs crowd out private giving?

Psychology Meta-study by Deci et al (1999) Meta-analysis of 128 studies Mention shortcomings and misinterpretations in other studies Tangible rewards have a negative effect on intrinsic motivation for interesting tasks Negative effect of rewards: undermine self-regulation People take less responsibility for motivating themselves

Economics